Cognex Corp (CGNX) 2009 Q2 法說會逐字稿

Welcome to the Cognex second quarter 2009 earnings call. (Operator Instructions). As a reminder, this conference may be recorded, and now I would like to turn the conference over to Richard Morin. Sir, please go ahead.

Thank you and good evening, everyone. Earlier tonight we issued a Press Release announcing Cognex's earnings for second quarter 2009. For those of you who have not yet seen this report a copy is available on our website at www.cognex.com. The Press Release contains detailed information about our financial results and because of that, we are not going to repeat most of that material.

During tonight's call, we may use a non-GAAP financial measure if we believe it is useful to investors or if we believe it will help investors better understand our results or business trends. For your reference, you can see the Company's income statement as reported under GAAP in Exhibit One of the Earnings Press Release and a reconciliation of certain items in the income statement from GAAP to non-GAAP in Exhibit Two. I would like to emphasize that any forward-looking statements we made in the Press Release or any that we may make during this call are based upon information that we believe to be true as of today. Things often change and actual results may differ materially from those projected or anticipated. You should refer to the Company's SEC filings, including our most recent Form 10-K for a detailed list of these risk factors.

Now I will turn the call over to Bob Shillman.

Thanks. Good evening, everyone. Welcome to our second quarter conference call for 2009. As some of you might have seen from the Press Release that we just issued, we reported revenue of $41 million for Q2, and a loss of $0.08 per share excluding the restructuring charges. These results represent a significant decrease from the results that we reported for Q2 of '08, and that's very disappointing. However, the news is bit better on a sequential basis. The order rate appears to have reached bottom in April, and total bookings for Q2 are higher than for Q1. As a result, revenue increased by 8% over the prior quarter, but that's when you exclude the $4.4 million of revenue in Q1 that had been deferred until completion of a [similar] customer contract. In Q2, we also realized additional savings from our cost cutting measures, and that [fact] helped the operating loss by again excluding restructuring charges it improved by $2 million, or 33% from Q1. And the loss of $0.08 per share, which was flat in the sequential base, was better than the Thomson First Call [consensus] estimate by at least $0.03 a share.

We're going to talk about revenue now in more detail, then I'll discuss expenses. Revenue from the semiconductor electronic capital equipment market, or SEMI as we call it, was approximately $2.5 million, which represents a decrease of 2%, about $50,000 on a sequential basis. Asia was the only geographic region where we saw improvement as certain customers needed to replenish inventories. In the surface inspection market, revenue was nearly $10 million in Q2 which represents an increase of (inaudible) over the prior quarter. It was the only market of the three primary markets that we serve that reported an increase year on year as revenue was up 4% from the second quarter of '08.

As we reported in last quarter's earnings call, orders from this market dried up at the end of Q1 and our customers waited to see what impact economic conditions would have on their business. I'm happy to report that the softening appears to have been a brief lull and that orders from the surface inspection of customers increased by 43% over the prior quarter as more projects were funded in Q2. This pickup was primarily due to higher demand from the metals market in China. In particular, we received orders totaling more than a million dollars from two of the largest Chinese steel makers. These were competitive wins as we continued to gain market share in a region that is made significant investments in surface inspection technology.

Lastly, the third and largest market segment to be served, the factory automation market, revenue was $28.7 million in Q2. This level represents an increase of 1% over the prior quarter. Again, after excluding $4.4 million of revenue in Q1, that had been deferred because of completion of a single customer contract. Overall we saw small increases in revenue for customers based in the US, Europe, and Asia, and from industries including consumer electronics, food and beverage and medical devices. We've also seen an increase in corporate bets from customers who want to be ready when their purse strings loosen up a bit.

Turning now to expenses, as conditions started to deteriorate, we quickly took action to better align our cost structure to the lower level of business. These steps included the elimination of approximately 145 positions worldwide, cuts in certain executive salaries, implementation of mandatory shutdown days, and the closure of our operation in Duluth, Georgia. Our cost-cutting measures were essentially complete by the end of Q2, and the vast majority of the restructuring charges are now behind us. In particular, we closed the Duluth facility, and we transitioned the distribution center located there to our Natick, Massachusetts headquarters without any disruption to our customers. In fact, our on-time delivery, which was excellent before that move, is now even better. Cost savings from our actions were apparent in Q2. The combined total of RD&E and SG&A excluding stock option expenses declined by 19% year on year and 15% from the prior quarter. We expect further declines in Q3 as we realize the full benefit of the measures -- the unfortunate measures that we had to announce.

The cuts we made were deep, but I want to assure you that we did not curtail or even delay strategic projects that we believe are critical to long-term success. (inaudible) These initiatives include our collaboration with Mitsubishi. We launched the insight easy product line for the Mitsubishi distribution network in Q1, and we are now in the process of training and certifying their largest distributor. So far, eight distributors have been officially signed by Cognex, and we expect to sign another five or so by year end, which will give us more than 1,000 additional factory automation sales people on the street in Japan, going into 2010. This will provide us with tremendous access to the factory floor in Japan, much more than we would be able to cover otherwise just with our own people.

In ID product, which is our second key initiative, we introduced the DataMan 200 ID reader earlier this year. I hear an echo. Can you turn off the -- the ID products, which is our second key initiative, we introduced the DataMan 200 ID reader earlier this year, and the feedback has been excellent. Customers find ethernet connectivity enables easier integration and faster communication between DataMan and the plant controllers and information networks. And they are impressed by the liquid limbs, which enables greater focal range and significantly simpler set-up in the system.

Over the past several years, ID has been a very fast growing business for us, and manufacturers continue to invest in track and trace projects. An example, already this year we received orders totaling nearly $3 million from one customer for our ID product. That customer used Cognex in their equipment to identify codes on bottles and cases of beverages during manufacturing to prevent both counterfeiting and subtract production for tax purposes. We see significant growth production for ID, (inaudible) continue to invest highly in this area.

Our third initiative is to focus on key vertical markets such as Solo Pharmaceuticals. Although the Solo industry is in a period of slower investment this year due to credit issues and lower oil prices, we are rather bullish about demand provision in Solo (inaudible) and Solo (inaudible) manufacturing in the long term. (inaudible) In pharmaceuticals is a strong (inaudible) division of supply chain applications, we are laying the groundwork for growth in both of these industries as well as in others that we believe have good long-term growth prospects. On the engineering side, development of our Vision System on a Chip, which is our fourth breakthrough initiative is progressing very nicely and is on schedule. We recently had what's called a tape out of production versions of the chip and we expect to have samples of those production versions in channel use by the end of next month.

In summary, while the current tone of business is certainly not bullish, (inaudible) the activity level is increasing. The costs are currently in line with the demand, and we're working hard and fast on our strategic initiatives. We see many opportunities for Cognex Vision, both in the markets we serve today and in the new markets that we plan to enter. Although it may be somewhat hidden during Q3 due to seasonality, we believe that we are well positioned for the second half of 2009 and for the year 2010, and that we grow our business from here, regardless of the timing and the breadth of the economic recovery.

At this time, those are my prepared remarks and I'd like to open up the conference call for any questions you might have for me or my team of executives, who are here with me on the phone with me, Rob Willett, President of MVSD; Rick Morin, Senior Executive VP and CFO, and his staff. Operator, we'll take questions.

(Operator Instructions). Our first question comes from Jim Ricchiuti from Needham & Company.

Good afternoon. Question on the geographic performance. It looks like the business declined sequentially in the Americas, and I'm just wondering, do you guys see that beginning to stabilize, or do you see that down again in the third quarter?

I think we've -- we started to see the bookings in the US started to -- it was fairly weak in the month of April, and it picked up in May and June, so we're seeing a little bit better results on the MVSD factory automation side. The other thing, too, though is a good portion of the SISD revenue in the quarter came from outside of the United States. So SISD was a pretty -- they had a pretty big quarter, at $10 million, and a good chunk of that $10 million came from outside of the US.

Okay. And also, it looks like Europe held up relatively well. What's the climate there? What's the business environment in Europe right now for you guys? We're hearing it's pretty weak for other companies.

We clearly saw -- we've started to see a little bit of weakness, especially in July, which sort of ties into the summer months in Europe when everybody goes on holiday to the beaches.

And just a final question from me, and I'll jump back in the queue. Can you talk a little bit about gross margins? It looks like it's just a higher percentage of [SISD] revenues in the quarter impacted your gross margins. Was there anything else in that -- in the decline in sequential gross margins, and where do you see that in Q3 going?

Yes, the clear -- there were a couple of things that impacted our gross margin percentage in Q2 as compared to Q1. First off is Q1 that deferred revenue, we had $4.4 million worth of revenue that had a gross margin in excess of 90%. Unfortunately, we'd like to see a hell of a lot more of that type of business, but unfortunately, that is a rare phenomenon, so that impacted the margin comparison. Secondly, I think, as you take a look, SISD went from roughly 16% or so of consolidated revenues in Q1 to pretty close to 25% in Q2, and the other thing, in Q2, we also had higher charge for excess inventories related to some end of life product that didn't sell during the period, principally some old style wafer ID product that we had to reserve.

We're holding on to the product because typically what we found is, as the semiconductor cycle might subsequently pick up, in the past we've been able to sell that inventory subsequently. But those were the three factors that impacted the gross margin percentage during the quarter. We would expect, as we go forward into Q3 that the gross margin percentage would improve. The one thing that will be working against us, though is that typically, due to the slowness in the summer months, we would expect that our top line revenue would be somewhat lower, but despite that, we still expect that our gross margin percentage would improve over Q2.

Okay, thank you, Dick.

Thank you, sir. Our next question comes from Rob Mason from Robert W. Baird.

Yes, Dick, just a quick question on the earnings expectations for the third quarter. You expect earnings to be less, or, excuse me, the loss to be less than it was in the second. Is that against the $0.08 adjusted EPS?

Yes. Clearly we're not going to -- we're not going to have a large restructuring charge in the third quarter. As a matter of fact, I think, as we take a look at what we expect to have left of restructuring charges, is probably less than 100 grand to go, and that's all based upon the timing of when certain individuals leave, but we would expect that even if you exclude the restructuring charge, our loss this quarter was about $0.08, and we would expect the loss next quarter to be less than that $0.08.

Dick or Dr. Bob, could you just talk about the health of your distribution channel, principally talking factory automation, obviously, but how did the sales through distributors perform in the quarter relative to your direct sales?

I think I'm going to let Rob Willett handle that one.

Rob can talk about that. As he's talking about that I will go through the book and be able to get the numbers relative to revenues of distributors versus direct sales. So go ahead, Rob.

Rob, your question relates to how is our distribution channel performing relative to our direct business?

Yes.

I think in that respect we're seeing our distribution bookings ring relatively constant as a percentage of our overall sales relative to our direct sales. It is not a big movement either way. I would say, probably in our MVSD business, we're seeing strategic accounts and larger businesses outperforming the rest. But that's more a result of where we're placing our own effort.

Is it your sense, or could you tell that your channel has adjusted their inventories of your products in the first half of the year? Are you seeing any -- and if they did, are you seeing any relief from that move?

I'd say a very strong aspect of Cognex's model is our distributors don't really hold inventory. We encourage them not to, and they don't. We have a very good supply chain that means they don't have to. The only area where that's not the case, where there is inventory in our business, relates to the SEMI business, but that would generally be more with machine builders and I think we've seen them reducing their -- (multiple speakers).

I can comment on that. We get regular reports in our OEM customers in the semiconductor related field have very, very, very little inventory.

Okay. Maybe just last question. Could you comment on the bookings in the SEMI business? I think you said Asia might be the only region that was up. I interpreted that as sales in the quarter, but perhaps comment on bookings.

I can do that, Rob. I have the charts pretty much in front of me here. I can tell you that the Japan SEMI bookings were almost -- were abysmal. They troughed in February, and they were almost zero, bookings per business day in February Were -- I'll give you the numbers. Well, I won't give you the number, but very small. Bookings have increased from that, but they are still (technical difficulties).

Americas SEMI bookings have reached a trough in, I'd say in December of last year, and have not recovered yet.(inaudible) The worldwide bookings in SEMI were a trough in February and have increased, but again, very low numbers. Europe has increased since April, again, extremely low numbers. So if you look at our results, they're really dominated by factory automation and SISD where SEMI is playing a much smaller role. (technical difficulties)

So it still appears a lot of excess capacity.

I think excess capacity in the equipment side, that's correct.

Okay. Thank you.

You're welcome.

Thank you, sir. Our next question comes from Chuck Murphy of Sidoti & Company. Please go ahead.

Hi, guys. Just wondering if you could give us a better feel. In terms of your guidance of sequentially lower sales, what's driving that? Is that the usual seasonality for factory automation, or is there something else there?

Go ahead, Dick.

I was going say two things. You've got your normal seasonality that's going to impact MVSD, and SISD had a huge quarter in Q2 where they had $10 million in revenues. They typically don't have that strong a quarter. Sort of made up for their Q1, and we don't expect that in Q3 that they'll do another $10 million quarter. So we're expecting declines in both the factory automation of MVSD, because of seasonality, and SISD. And we don't think SEMI is going to make up for that difference.

Sure. But for surface inspection, aside from having a break after the big Q2, is that still generally trending upwards, or holding at a higher level?

SI -- (multiple speakers)

(inaudible) businesses, or our (inaudible) the surface inspection has been (technical difficulties) and has not been affected, that we can tell from the slowdown. Now, it might be -- and it could very well be that it (technical difficulties) has shrunk, but under the great guidance (inaudible) he's been able to win more orders than the competitor, but mainly in China. We're doing a great job in China.

Okay. And I know you said for factory automation, seasonality, but if I look over like the past five years, it seems like it's kind of been 50/50 up or down sequentially. I mean, is there anything more to it than just a hunch that there's going to be seasonality this time around, or are you actually seeing it in the order patterns going into the quarter?

I guess the first question, as you're looking at the prior years, are you looking at total MVSD, Chuck, or are you looking at the breakout between factory automation and SEMI? Because to a certain degree, I think for the most part we have consistently seen a decline in the summer months on factory automation, and they could be that in certain years if the semiconductor cycle happened to be in an upswing, that you might see the total MVSD is up Q3 over Q2. So right now, I think we're definitely expecting the typical seasonal slowdown on the factory automation side. The one, if you will, open question that we have is relative to what is really going on with the economy and what are we going to see relative to impact there. Whether some of the benefit that we started to see in Q2, whether that was one-time, just some special projects, or whether it really indicates a general improvement in the economic outlook.

Okay.

Yes, I can expand on that a little bit, Dick. I'm looking at worldwide factory automation bookings for the last two years in front of me, and there is a -- from July to August of '07, there was a 10% decline from July to August, and then a rather dramatic pickup of about 30% in September. And then if I go to '08, from July to August, the decline is about 15%. From July to August, but then again, looks like about a 20% pickup, 25% pickup in September. So it all depends how you look at the bookings.

But the bottom line is that Dick's answer is correct. FA, Factory Automation slows down in August. (inaudible) since Factory Automation is now a much larger piece of our business than SEMI, we would -- that's why -- the combination of that and that we expect that SISD will ship far less. I mean I look at the numbers of the revenue in Q2 at just the surface inspection was 24% in Q2 and it's historically been running significantly less than that, somewhere around 12% to 15% or 18%. I don't recall it being 24% (inaudible) time. Those are the two things, based on those two things we believe that July and August will be (technical difficulties) see a pickup, (technical difficulties) and hopefully continuing in Q4.

Okay. And the sequential decline in R&D from the first to the second quarter, what projects did you eliminate, or where did you pull back there?

Let me speak to that. I think what we did is we've focused our R&D spend on our key growth initiatives. We have reduced a number of Vision Software teams, and we focused much more on our initiative ID products from Mitsubishi, (inaudible) vertical market, and finally the Vision System on a Chip. So we focused away from some of the older activities and on to the growth areas.

All right. And my last question was just that 5% to 8% sequential decline in OpEx you're looking for in the third quarter. Where would that be coming from? Is it just headcount reductions?

It's a combination of things, Chuck. First off, certainly to the extent that we made headcount reductions during the second quarter, after the April restructuring, we will have a full benefit during Q3, where as we only had a partial benefit in Q2. The other significant thing that we have going on in Q3 that did not occur in Q2 is we've got shutdown periods around the world where we're shutting down our facilities for a week or two. Here in the US, where every Friday we're shut down during the third quarter. So we will have that as incremental savings in the quarter.

Okay. That's all I had. Thanks, guys.

You're welcome.

Thank you, sir. Our next question comes from Russ Piazza from Front Street Capital.

This question is for Rob actually. Since you've been there a while, I am just kind of wondering what adjustments that you've either been suggesting or trying to make during this period, and or where have you been focusing your efforts?

Yes, well, as we kind of alluding to in the call, we have some key growth initiatives that we're focusing the organization around to deliver on, those areas we think have very high potential. So our ID products, the relationship we have with Mitsubishi, where the Japan market provision is very large, and we're underweight in share in Factory Automation there. So a lot of focus.

Key growth vertical markets, pharmaceuticals is a very major one that's delivering quite well, has good potential. Then thirdly, and fourthly, a longer term initiative with the Vision System on a Chip which really has the potential to reinvent the Company and take us into a lot more markets. So a lot of what I'm doing is getting us aligned and focused and getting everybody -- delivering on those.

I think another area we've talked about, too, is on the cost side where, we saw a lot of opportunity to consolidate some of our operations in the way we're managing the business. You saw us do that with the closure of the Duluth operation and consolidation into our Massachusetts facility, and we're able to do that without any disruption to the business. It's those kind of initiatives where we're consolidating the operations. And I would be bringing some -- I would call them more lean management techniques into some of our operation, specifically a larger manufacturing facility in Cork in Ireland where, we've gone from a push structure to more of a pull structure. Where we're building product to order for customers and finding we have better quality and delivery as a result. I think we've been able to do that --

How far are you through that process?

Oh, we're pretty much through it, yes. I was there a couple weeks ago, and it's working very well. So we've been able to do that while maintaining quality and delivery, and removing significant costs, and 145 people from the business. So that's where my time is being spent.

Thank you so much.

Thank you, sir. (Operator Instructions). We do after follow-up question. It comes from Jim Ricchiuti from Needham.

The SISD bookings that you have in the quarter, do you see that being converted into revenue in Q4, or is that the early part of next year?

A couple of the larger orders that we booked in Q2 will turn into revenue this year in the second half. A couple of the major ones. I don't have the detail on every single order, but we will share some of that in the second half, Jim.

To dig a little deeper into the bookings improvement that you saw sequential improvement in Factory Automation, is there anything within the booking patterns, the order trends that you're seeing, that gives you a little bit more confidence that you really have potentially turned the corner as you look out to the Q4 time frame as well?

Well, this is Bob (multiple speakers).

Hi, Bob.

We see bookings increasing. We saw them flatten out in the April -- March-April time frame, and they picked up pretty much sequentially since then, but it's such -- from such a dismal low level, and the pickup isn't -- it sounds like a percentage, but overall (inaudible) it's not that huge. So in my view it's premature to say that happy times are ahead. We have had contact and word from large industrial companies that we either sell into or they sell into our customers. Not in the (inaudible) vision products, but sell automation. And their feeling is that the inventory, of whatever machines people are buying, has now been used, and that there are real orders, but the order rate from these large industrial firms, they expect -- tend to be -- 2010 to be rather flat.

[Frontier] -- not one of them said that from here. We see a pickup from here, but if -- we're certainly not walking around with smiles on our faces when we look out at the economic climate, and our business in general. It's happier than it was, and it's not going down any more, it's actually picking up. Happy days are not on the short-term horizon. Our view is that 2010 will be a good year, likely to be a profitable year, but when we think back to how great things were in prior years, when we were getting $250 million, or $260 million a year with seeing some profits, we don't see that coming -- we don't see it in the near term. We don't see it in the near term.

Understood. Bob, when you guys announced the Mitsubishi deal, I think before we really saw the economy hit the skids --

Right.

You talked about the potential in the first year of doing $10 million of revenue. If we look out at 2010, and clearly Japan is having a tough time as well, how should we think of that, the potential contribution Mitsubishi could provide in 2010?

A very good question. And you're right, had the economy not tanked worldwide, and especially in Japan, (inaudible) we would have seen $10 million in the first year. We now expect something like $5 million in 2010.

Okay, that's helpful. And question on the Vision System on a Chip. It sounds like things are tracking your expectations, and I think at one point you said there was the possibility of maybe an OEM announcement two to three-quarters away. Is that something that you guys see possibly late this year, early next year?

Well, I hope it will always be two to three-quarters away. That's how many projects seem to run. But I will tell that you this project, and it is being run by a group of guys (inaudible) and this is a very complex project. Not just the design of the chips, but getting these chips made and tested and writing the software for the chips and writing more software for customers who use the chips. One of my directors, who is very well aware of the complexities, had told me about it, and (inaudible) we know how to do it better. We do know how to do it better than most people, but never the less, this is an enormous effort. And it is (inaudible). It might be off by a week or two. (Inaudible) on schedule. There's been no surprises. We haven't had to throw out (inaudible) or anything like that and we're very optimistic about what we are going to see this chip do. We're already seeing the preproduction prototypes functioning quite amazingly. They are going to enable to us put Machine Vision in the hands of people who don't want to spend a lot of money. Not only that it is going to be in the hands of consumers perhaps, even and because of the low cost of entry that this kind of technology on a single chip.

I can tell you that in-house, the development [effort] not only of the chip but of the software (inaudible) is on schedule. (inaudible) I think it's likely to be in Q4 where we're going to introduce our first product with that chip, our first product to the industrial world that has that chip. We are currently entertaining a number of OEM customers who will be embodying -- who we hope will be embodying this chip in their product. I can't -- I don't want to yet disclose what the applications are, but they're reasonably high-volume applications. So things are going well. We (inaudible) don't have any signed contracts yet. I don't, so I'd say three-quarters of the way into the game. It's not early in the game. We have the chips working. We know what (inaudible) and everything. So it's the -- the news that I get, and I get a lot of this news, and I'm paying a lot of attention to this (inaudible) is very, very good. It's on target.

Great. Last question for me is just on acquisitions. Wonder if you'd comment on the activity that you're seeing out there.

(inaudible) One person, maybe one and a half full-time people chasing acquisitions. We -- there are a lot of companies that want to get bought. They come to our attention. They are not, either they're not in the right market or not the quality or not the right culture for us, but I can tell you right now there is one that is on the front burner, and that depending on certain negotiations and certain (inaudible) lights, that deal should close sometime in Q3. (multiple speakers)

And you talked about the smaller acquisitions. Is it in that category?

It is a small acquisition, though it could have a very substantial impact on the business in surface inspection.

Terrific, thank you.

You're welcome.

Thank you.

It's a product line, by the way.

Thank you. Our next question comes from [Peter Lizelle] with [Snyder Capital Management], please go ahead.

Can you break out the impact that the foreign currency had in terms of year-over-year decline in both the R&D level and SG&A?

Hang on, I think we've got that. Q2 '09 versus Q2 '08, engineering due to FX is down $300K. Sales, marketing, and G&A, I guess, that's all on the SG&A line. Is about $1.3 million to $1.4 million.

Okay, thank you.

You're welcome.

Thank you. (Operator Instructions). We do have a follow-up question from Chuck Murphy from Sidoti and Company. Please go ahead.

Just a quick follow-up for Dick. Could you give us some idea what to expect for interest income in the third quarter? It declined quite a bit sequentially in the second.

A good portion of that decline was on the balances that we have in Europe where the rates being paid in Europe have gone down from around 4% or so and it's now down closer to 1%. I would expect that our investment income for next quarter will go down slightly. We have, and it's due to two things, one of which is we will, in fact -- we have a net cash outflow this quarter as a result of the restructuring charges and the payments there. But also we have maturities coming due of some investments which had a higher rate, so I would expect that our investment income might decline by a further $100K or so.

Thank you.

Thank you, sir. (Operator Instructions).

Okay, I believe there's no one else in the queue right now, and given that, if there are any other questions that come up later in the day, you can feel free to give Sue Conway a call. I think you have her number. And hopefully we'll report better or improving results in Q3. Thanks again for your attention.

Ladies and gentlemen, this does conclude today's conference. Thank you, for your participation, and have a wonderful day. Attendees, you may now disconnect.